UNIT 3
CONTRACT COSTING
Contract Costing is the form of specific order costing which applies where work is undertaken to customer’s special requirements and each order is of long duration. It is a special type of job costing where the unit of cost is a single contract. Contract itself is the cost centre and it is executed under the specifications of a customer. Contract Costing is mainly used by Civil Engineers who undertake long term projects such as construction of road, bridge, building etc. it is similar to job costing. It has following features.
- The work is done at a site which is generally away from the contractor’s premises.
- The contract takes more than a single accounting period.
- Most of the expenses are chargeable directly to the contracts.
- Each contract is distinct and dissimilar from other contracts.
The following terms are generally used in Contract Costing:
Contract: A contract is a legally enforceable agreement. It is an agreement between contractor and contractee which contains the terms and conditions in relation to a job.
Contractor: The person who undertakes to do the job is a contractor.
Contractee: The person for whom the job is being done is the contractee.
Contract Price: It is the amount agreed to be paid by the contractor as consideration for the job to be done.
Work certified: It is the quantum of work done by the contractor and certified by the technical assessor (surveyor or architect) appointed by the Contractee in terms of the contract.
Work uncertified: It is the value of work completed by the contractor but not certified by the Architect or Surveyor at the end of the accounting period.
Retention Money: It is the amount in respect of the portion of work certified and retained by the contract with firm as security deposit on account of any loss that may arise due to defects in the work noticed in future.
Under Contract Costing, a contract is basically the cost unit and it is regarded as a cost centre for the purpose of control. A separate contract account is opened for individual contract for the purpose of determination of profit or loss on each contract. The following costs are recorded in the contract account.
Materials:-
Materials are normally purchased and delivery obtained at the site. Excess materials, if any, may either be sold at site or returned to the store. Sometimes, materials are sent from one site to another. All the materials purchased or sent from the stores or another site are debited to contract account and materials sold or returned to stores are credited to the contract. Materials on hand at the end of the accounting period are credited to contract account.
Labour:
It is easy to allocate major part of the labour to contract account. A muster is maintained at the site for the contract. Labour cost is accumulated and debited to each contract. Some workers are deputed from one site to another for some time which is debited to the respective contract on the basis of the time spent on each contract. At the end of the accounting period, the amount of outstanding labour charges is determined and also debited to the contract account.
Plant & Tools:
The contract account is debited to the extent of the depreciation of the plant or tools used for the period on each contract.
Sub-Contracting:
A part of the work may be given to another contract or which is called sub-contracting. The entire amount paid to the sub- contractor is debited to the particular contract account.
Work in Progress:
At the end of the accounting period an incomplete contract will appear as an asset in the balance sheet. The work in progress includes the following:
Cost of work Certified xxx
Cost of work uncertified xxx
Profit taken credit for xxx
Total
Less: Account received from the Contractee xxx
Work in Progress xxx
The value of work in progress is the balance on the contract account which is carried down to the following accounting period.
The difference on the two sides of contract account naturally indicates the profit or loss on the contract and is transferred to costing profit and loss account. When the contract is incomplete at the end of the costing period, several adjustments are usually necessary to close the books.
It is the general rule that profit cannot be anticipated and taken credit for. Therefore, profit earned on a contract must be recognized only on the completion of the contract. However, large contracts are hardly completed in the year of commencement. They extend over a number of accounting periods. Therefore, it is advisable to take credit for profit where it is anticipated. In such a case it is always good that profit is conservatively calculated and only a percentage of total estimated profit on the complete contract equivalent is transferred to the general profit and loss account.
The following principles must be borne in mind in determined the amount of profit to be taken credit for:
The stage of completion of the contract is determining as follows :
Work Certified = Contract Price x 100
It is conventional to classify incomplete contracts on the basis of the stage of completion as under:
If the work completed is less than 25%, then no profit is taken credit for during that accounting period.
If the work completed is 25% to 50%, one third of profit is taken credit for during that period.
If the work completed is more than 50% but less than 75%, half of the profit is taken credit for during that period.
If the work completed is more than 75 % but less than 90 % two third of the profit is taken credit for during that period and
If the work is almost completed and very insignificant portion is remained, estimated cost of expanses for the outstanding work is charged, to the cost and the entire profit is taken credit for during the period.
Even here, it is considered improper to take the entire estimated profit to the profit and loss account when cash for the work done is not received. The portion of profit for which credit can be taken is determined by using the following formula:
Cash received Profit = Estimated Profit x --------------------
Work Certified
Since the cash received from the contractee is normally less than work certified, this method is suitable for conservatism principles.
Q.1
National Co. Ltd. Undertook a contract at a price of Rs. 10,00,000. The work started 1st on April 2008. Prepare a Contract Account for the year ended 31st March 2009, from the following particulars.
Particulars | Amt |
Materials issued to site | 85,000 |
Labour on site | 75,000 |
Plant installed at site | 15,000 |
Sundry Direct Expenses | 3,000 |
Establishment charges allotted to contract | 4,000 |
Materials returned to stores | 500 |
Work certified by architect | 2,00,000 |
Cost of work not certified | 5,000 |
Materials on hand on 31-3-2009 | 2,000 |
Wages due on 31-3-2009 | 10,000 |
Value of plant on 31-3-2009 | 12,000 |
Cash received
| 1,80,000 |
Solution:
Contract A/c
PARTICULAR | AMOUNT | AMOUNT | PARTICULAR | AMOUNT | AMOUNT |
To Materials |
| 85,000 | By contractee A/c |
|
|
To Wages | 75,000 |
| Work Certified |
| 2,00,000 |
Add : O/S wages | 10,000 | 85,000 |
|
|
|
To Depreciation on Plant |
| 3,000 | By Material Return to Stores |
| 500 |
To Sundry Expenses |
| 3,000 | By WIP |
|
|
To Establishment Charges |
| 4,000 | Work Uncertified | 5,000 |
|
To bal c/d |
| 32,000 | Material in hand | 2,000 | 7,000 |
|
|
|
|
|
|
|
| 2,12,000 |
|
| 2,12,000 |
Note:-
Since the contract has been completed less than 25% no profit will be taken to Profit & Loss Account. Hence, the balance of contract account will be taken as work in progress.
Q.2
SM Construction Ltd. Have obtained a contract for construction of a bridge. The contract price is Rs. 12,00,000 and the work commenced on 1st November 2008. The following details are shown in their books for the year ended 30th September 2009.
Particulars | Amt |
Materials issued to site | 3,25,000 |
Wages paid | 3,00,000 |
Plant purchased | 50,000 |
General overheads apportioned | 30,000 |
Direct Expenses | 10,000 |
Wages accrued on 30-9-2009 | 3,000 |
Materials at site on 30-9-2009 | 4,000 |
Direct expenses accured as on 30-9-2009 | 1,000 |
Work not yet certified | 14,000 |
Cash received being 80% of work certified | 6,00,000 |
Life of the plant purchased is 5 years and the scrap value is nil. Prepare Contract account, and show the amount of profit which would be taken on contract on a conservative basis.
Solution:
Contract A/c
PARTICULAR | AMOUNT | AMOUNT | PARTICULAR | AMOUNT | AMOUNT |
To Materials |
| 3,25,000 | By |
|
|
To Wages | 3,00,000 |
| Cost of Work Certified |
| 14,000 |
Add : Accured wages | 3,000 |
| By Contractee A/c |
| 7,50,000 |
To Depreciation on Plant |
| 10,000 | By Material at site |
| 4,000 |
To Direct Expenses | 10,000 |
|
|
|
|
Add : accured | 1,000 | 11,000 |
|
|
|
To General Overhead |
| 30,000 |
|
|
|
To P&L | 35,600 |
|
|
|
|
To Balance B/d | 53,400 | 89,000 |
|
|
|
|
| 7,68,000 |
|
| 7,68,000 |
Note:
Profit to be taken to P & L Account is as follows:
Contract completed = 7,50,000 / 12,00,000 x 100
=62.5%
Since contract is complete more than 50% but less than 75% half of the estimated profit should be taken to Profit and Loss Account which will further be reduced to the proportion of cash received to work certified.
Cash received
Cash received
Profit = Estimated Profit x ½ x ---------------------
Work certified
1 x 6,00,000
= 89,000 x ------------------ = 35,600
2 x 7,50,000
0
(iii) Work certified = 100 / 80 x 6,00,000
= 7,50,000
Q.3
Particulars | Amt |
Material Purchased | 6,00,000 |
Material drawn from stores | 1,00,000 |
Wages | 2,25,000 |
Plant issued | 75,000 |
Chargeable expenses | 75,000 |
Apportioned indirect expenses | 25,000 |
The contract was for Rs.20,00,000 and it commenced on January 1, 2018. The value of the work completed and certified up to 30th November, 2018 was Rs.13,00,000 of which 10,40,000 was received in cash, the balance being held back as retention money by the contractee. The value of work completed subsequent to the architect’s certificate but before 31st December, 2018 was Rs. 60,000. There were also lying on the site materials of the value of Rs.40,000. It was estimated that the value of plant as at 31st December, 2018 was Rs.30,000.
You are required to COMPUTE value of work certified, cost of work not certified and notional profit on the contract till the year ended 31st December, 2018
Solution:
Contract A/c
PARTICULAR | AMOUNT | AMOUNT | PARTICULAR | AMOUNT | AMOUNT |
To Material Purchased |
| 6,00,000 | By WIP |
|
|
To Stores issued |
| 1,00,000 | Value of work certified |
| 13,00,000 |
To Wages |
| 2,25,000 | Cost of work Uncertified |
| 60,000 |
To plant |
| 75,000 | By Material unused |
| 40,000 |
To chargeable expenses |
| 75,000 | By plant less depreciation |
| 30,000 |
To indirect Expense |
| 25,000 |
|
|
|
To costing P&L (Notional profit) (bal. Figure) |
| 3,30,000 |
|
|
|
|
| 14,30,000 |
|
| 14,30,000 |
Q.4
A contractor prepares his accounts for the year ending 31st December each year. He commenced a contract on 1st April, 2018.
The following information relates to the contract as on 31st December, 2018:
Particulars | Amt |
Material issued | 2,51,000 |
Wages | 5,65,600 |
Salary to Foreman | 81,300 |
A machine costing Rs 2,60,000 has been on the site for 146 days, its working life is estimated at 7 years and its final scrap value at Rs.15,000.
A supervisor, who is paid Rs 8,000 p.m. Has devoted one-half of his time to this contract.
All other expenses and administration charges amount to Rs.1,36,500. Material in hand at site costs Rs.35,400 on 31st December, 2018.
The contract price is Rs. 20,00,000. On 31st December, 2018 two-third of the contract was completed. The architect issued certificates covering 50% of the contract price, and the contractor had been paid Rs.7,50,000 on account.
PREPARE Contract A/c and show the notional profit or loss as on 31st December, 2018.
Solution:
Contract A/c
PARTICULAR | AMOUNT | AMOUNT | PARTICULAR | AMOUNT | AMOUNT |
To Material issued |
| 2,51,000 | By Machine (WN1) |
| 2,46,000 |
To Wages |
| 5,65,600 | By Material (in Hand) |
| 35,400 |
To Foreman’s Salary |
| 81,300 | By Work Cost (Balancing Figure) |
| 10,49,000 |
To Machine |
| 2,60,000 |
|
|
|
To Supervisor’s Salary (8,000 × 9)/2 |
| 36,000 |
|
|
|
To Administrative charges |
| 1,36,500 |
|
|
|
|
| 13,30,400 |
|
| 13,30,400 |
To Works cost |
| 10,49,000 | By Value of work certified |
| 10,00,000 |
To Costing P&L A/c (Notional profit) |
| 2,13,250 | By Cost of work uncertified (Working Note 2) |
| 2,62,250 |
|
| 12,62,250 |
|
| 12,62,250 |
Working notes:
- Written down value of Machine:
2,60,000 – 15,000 / 7 years x 146 days / 365 days = 14,000
Hence the value of machine after the period of 146 days = 2,60,000 –14,000 = 2,46,000
2. The cost of 2/3rd of the contract is 10,49,000
Cost Of 100% of Contract is 10,49,000 / 2 x 3 = 15,73,000
Cost of 50% of the contract which has been certified by the architect is Rs.7,86,750. Also the cost of 1/3rd of the contract, which has been completed but not certified by the architect is Rs. 2,62,250.
Q.5
Amit Construction Ltd. Commenced a contract on April 1, 2018. The total contract was for Rs 49,21,875. It was decided to estimate the total profit on the contract and to take to the credit of Costing Profit and Loss A/c that proportion of estimated profit on cash basis, which work completed bore to total contract. Actual expenditure for the period April 1, 2018 to March 31 2019 and estimated expenditure for April 1, 2019 to September 30, 2019 are given below:
| April 1, 2018 to March 31, 2019 (Actual)(Rs) | April 1, 2019 to Sept. 30, 2019 (Estimated) (Rs) |
Materials issued | 7,76,250 | 12,99,375 |
Wages: Paid | 5,17,500 | 6,18,750 |
Prepaid | 37,500 | - |
Outstanding | 12,500 | 5,750 |
Plant purchased | 4,00,000 | - |
Expenses: Paid | 2,25,000 | 3,75,000 |
Outstanding | 25,000 | 10,000 |
Prepaid | 15,000 | - |
Plant returns to store (historical cost) | 1,00,000 (on September 30, | 3,00,000 (on September 30, |
| 2018) | 2019) |
|
|
|
Work certified | 22,50,000 | Full |
Work uncertified | 25,000 | - |
Cash received | 18,75,000 | - |
Materials at site | 82,500 | 42,500 |
The plant is subject to annual depreciation @ 25% on written down value method. The contract is likely to be completed on September 30, 2019.
Required: PREPARE the Contract A/c for the year ended 31st March, 2019 and determine the estimated profit on the contract.
Solution:
Contract A/c (1.4.18 to 31.3.19)
Particulars | (Rs) | Particulars | (Rs) | |||||
To | Materials issued | 7,76,250 | By | Plant returned to Store on 30-9-2018 | 1,00,000 |
| ||
To | Wages | 5,17,500 |
| Less: Depreciation (1/2) | (12,500) | 87,500 | ||
Less: Prepaid | (37,500) |
|
|
| ||||
Add: Outstanding | 12,500 |
4,92,500 | By | Plant at site on 31.3.19 |
|
| ||
|
|
| 3,00,000 | |||||
To | Plant purchased | 4,00,000 | Less: Depreciation | (75,000) | 2,25,000 | |||
To | Expenses | 2,25,000 |
| By | Materials at site c/d |
| 82,500 | |
Less: Prepaid | (15,000) |
| By | Work-in-progress c/d |
| |||
Add: Outstanding | 25,000 | 2,35,000 | Work certified | 22,50,000 | ||||
|
| Work uncertified | 25,000 | |||||
To | Notional profit |
| 7,66,250 |
| - | |||
| 26,70,000 |
| 26,70,000 | |||||
Contract A/c (1.4.18 to 31.9.19)
Particulars | (Rs) | Particulars | (Rs) |
To Materials issued (7,76,250 +12,99,375) | 20,75,625 | By Plant returned to Store on 30-9-2018(100000-12500) | 87,500 |
To Plant Purchased | 4,00,000 | By Plant returned to Store on 30-9-2019(400000-100000-103125) | 1,96,875 |
To Wages (517500+12500+618750+ 37500-12500+5750-37500) | 11,42,000 | By Contractee A/c | 49,21,875 |
To Expenses (225000+25000+15000+375000-25000+15000+10000) | 6,10,000 | By Materials at Site | 42,500 |
To Estimated Profit | 10,21,125 |
|
|
| 52,48,750 |
| 52,48,750 |
Working:
Calculation of WDV of Plant as on 30.9.2019
Plant purchased on 1-4-2018 | 4,00,000 |
Less: Plant returned to store on 30-9-2018 | 1,00,000 |
(Depreciation on it Rs1,00,000 x 25/100 x 6/12 = Rs12,500) |
|
| 3,00,000 |
Less: Depreciation on Balance plant (3,00,000 x 25/100) | 75,000 |
WDV of Plant on 1-4-2019 | 2,25,000 |
Less: Depreciation (2,25,000 x 25/100 x 6/12) | 28,125 |
WDV of plant returned to store on 30-9-2019 | 1,96,875 |
